After 30 years in the investment adviser and broker-dealer industry I have discovered a few truisms, which I felt needed to be shared in this sixth installment of an ongoing series: Almost everything cycles, and those this forget that end up in big trouble; the economy, interest rates, stock prices, commodity prices, real estate prices and the rest go up and down, whatever the long-term trend.
During every boom, there are be prognosticators that declare that there have been structural changes — and things can go up forever, as was recently the case with housing prices. The bust comes, and there’s not enough revenue to go around, so half the people leave the real-estate industry. When the next boom comes, it’ll start with revenues shared among many fewer real-estate brokers, the survivors.
And it is no different in the investment adviser and broker-dealer industry. These patterns repeat themselves over and over.
The major firms face high overhead spread among a falling revenue base. All the recruiting and retention deals that were modeled on assumptions of rising revenues become a great burden on financial performance. Lower producers are terminated; one firm just terminated every adviser doing less than $250,000 in annual revenues.
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Payout is cut, but often mostly at the lower end putting pressure on lower producers. Staff and other support is cut and cut. There is less help and more burdens, and it is easier to have errors and mistakes as a result. Training programs for new advisers are cut or eliminated.
For lower level producers, the first issue to confront is whether this viciously cyclical industry is the place for them. If it is, the second issue is how to survive the cycle. You may have to look to smaller firms, boutiques, independent contractor firms, the large brokerage houses will not be the most hospitable employers.
People in the compliance side of the industry during a down cycle refer to the “ratchet effect.” Advisers who have not experienced the severe cycles in the industry, and, unfortunately, some who have, ratchet up their life styles during the good times to a level that can not be supported by the declining fees and commissions. This has many impacts. Some advisers suffer severe depression. We should all watch our colleagues and people who feel the need should seek help.
But the pressure leads some advisers to do bad, or foolish, or desperate things. If you want to be a survivor and prosper when the cycle turns, discipline is necessary.
Advisers with no bad intent can find themselves doing foolish things as the pressure mounts, trying to find the magic formula to generate revenues.
Most important, communicate with clients. It can become painful to keep picking up the phone while clients are losing money; they are angry, scared, frustrated, and you have no easy answers. Some advisers stop communicating. This leads to complaints and arbitrations, and no clients on the other side of the cycle. It may be hard to switch from marketing to comforting and reassuring clients in tough times, but you have to do it.
While there are no absolute truths, some temptations that lead advisers to disaster seem to repeat themselves over and over in tough times, and in good times also to some extent. Let’s review them:
1. If it is too good to be true it is probably not. A supposedly safe and secure debt instrument paying a huge commission and way over market returns is not likely possible unless the sponsor is a magician or a crook.